The pricing of green bonds

Serena Fatica Roberto Panzica Michela Rancan

(European Commission – Joint Research Centre)

EC Conference on Promoting Sustainable Finance Brussels, January 8th 2019

Introduction

• Green bonds are fixed income securities which usually differ from conventional debt instruments only in that they finance environmental or climate-related activities

market-based solution to channel funds to environmentally beneficial projects.

• Rapidly expanding market since its inception in 2007, notwithstanding the absence of a commonly agreed definition of ‘greenness’

Green Bonds and their pricing

• Why do investors hold green bonds? Non-pecuniary motives, pro-environmental preferences

• If the appetite for certain types of assets enters the utility function of investors in addition to their return/risk expectations, investors’ tastes modify equilibrium prices (Fama & French, 2007).

• Empirical evidence:

• Schiereck (2018): no significant price differences between green and similar ordinary bonds;

• Zerbib (2018) and Baker et al. (2018) find a moderate green bond premium;

• Karpf & Mandel (2017) find a green bond discount on secondary market yields.

What we do

In this paper, we investigate:

• the pricing implications of the green label on the primary market for bond issuances;

• if certification has an impact on equilibrium prices;

• if there is a reputational effect associated with recurring green issuances

Green Bond Market: evolution

Source: Dealogic DCM, Green Bond Notional Amount and Contracts, Period 2007-2018.

Green Bond Market: EU versus Non-EU Issuers

Source: Dealogic DCM, Green Bond Notional Amount, Period 2007-2018.

Green Bond Market: breakdown by type of issuer

Source: Dealogic DCM, Green Bond Notional Amount, 2007-2018.

Green Bond Market: breakdown by Sector

Source: Dealogic DCM, Green Bond Notional Amount and Contracts, Period 2007-2018.

Data and sample descriptives

Panel A.

Issuer Green Ordinary

Number Amount

(EUR bn)

Average

yield (%) Number

Amount

(EUR bn)

Average

yield (%)

Supranational

institutions 222 42.17 3.56 7,443 1,429.16 5.18

Financial firms 401 135.45 3.08 181,284 25,321.83 3.26

Non Financial

firms 508 109.33 3.77 78,225 17,799.63 4.82

Total 1,131 287 3.48 266,952 44,550.62 3.77

Panel B.

Issuer Certified Non-Certified

Number Amount

(EUR bn)

Average

yield (%) Number

Amount

(EUR bn)

Average

yield (%)

Supranational

institutions 79 10.91 4.37 143 31.25 3.12

Financial firms 187 61.60 2.87 214 73.86 3.27

Non Financial

firms 217 64.79 3.08 291 44.54 4.27

Total 483 137 3.21 648 149.65 3.76

• Data on bond tranches issued by corporations and supranational institutions worldwide in the period 2007-2018 (November), taken from Dealogic DCM

• Out of 268,083 fixed income securities issued, 1,131 are classified as ‘green’, of which 483 are certified

Source: Dealogic DCM

Econometric strategy

• Specification:

• Dependent variable: Yield at issuance of bond b issued by firm i at time t

• Independent variables:

• Green: dummy variable equal to 1 if a bond is classified as green

• X: vector of bond characteristics • Callable

• Puttable

• Collateralized

• Currency dummies

• Use of proceeds dummies

• Size dummies

• Maturity×rating×time

• Issuer fixed effects (𝛿𝑖)

𝑌𝑖𝑒𝑙𝑑𝑏,𝑖,𝑡 = 𝛽0 + 𝛽1𝑮𝒓𝒆𝒆𝒏𝐛,𝐢,𝒕 + 𝛽2𝑿𝑏,𝑖,𝑡 + 𝛿𝑖 + 𝜖𝑏,𝑖,𝑡

Results - baseline

• Green bonds are issued at a significantly lower yield compared to ‘conventional’ bonds

• There are differences across types of issuer

(1) (2) (3) (4)

All Financial and Supranational

Financial Non-financial

Green -0.4387*** -0.5193*** -0.1175* -0.2747*** (0.046) (0.058) (0.071) (0.069) Callable 0.2060*** 0.2207*** 0.2671*** 0.0173 (0.008) (0.009) (0.009) (0.019)

Puttable -0.0845*** -0.1685*** -0.2091*** -0.0636*** (0.017) (0.039) (0.035) (0.016) Collateralized 0.0217 0.1521*** 0.0726*** -0.2171*** (0.020) (0.025) (0.023) (0.032)

Use of proceeds: Refinancing 0.0378** -0.0135 0.0256 0.0154 (0.017) (0.029) (0.027) (0.020) General Corporate Purpose 0.1652*** 0.0789*** 0.0817*** 0.2468***

(0.013) (0.024) (0.022) (0.013) Securitisation 0.5212*** 0.3716*** 0.4210*** 1.1516*** (0.047) (0.055) (0.050) (0.125)

Constant 3.4336*** 3.0821*** 2.9846*** 4.5132*** (0.013) (0.024) (0.022) (0.013) Observations 258,430 186,261 178,684 71,575

R-squared 0.7816 0.7367 0.7717 0.8760 Adjusted R-squared 0.762 0.722 0.758 0.844 Bond size cat FE Yes Yes Yes Yes

Issue size cat FE Yes Yes Yes Yes Currency FE Yes Yes Yes Yes Maturity×Rating×Time FE Yes Yes Yes Yes Issuer FE Yes Yes Yes Yes

Results - robustness

• Our results are robust to:

• Issuer’s country fixed effect (panel A)

• Issuer’s industry fixed effect (panel C)

• Results are mainly driven by bonds issued by borrowers in developed countries (panel B)

Panel A. Country fixed effect

(1) (2) (3) (4)

All Financial and

Supranational

Financial Non-financial

Green -0.4372*** -0.5221*** -0.1421** -0.2708***

(0.046) (0.058) (0.069) (0.069)

Panel B. Developing vs emerging countries

(1) (2) (3) (4)

Financial

Developed

Financial

Emerging

Non-financial

Developed

Non-financial

Emerging

Green -0.3902*** 0.2092 -0.3388*** -0.1552

(0.085) (0.130) (0.087) (0.111)

Panel C. Industry fixed effect

(1)

Non-financial

Green -0.2747***

(0.069)

Results – certification

• Certified green = variable equal to 1 for green bonds that are certified by a third party (i.e. Cicero, Vigeo Eiris, DNV GL …)

• Result: the market values an ‘official’ green certification

(1) (2) (3) (4)

All Financial and

Supranational

Financial Non-financial

Green -0.5340*** -0.6786*** -0.0548 -0.1822*

(0.063) (0.079) (0.105) (0.095)

Certified green -0.3350*** -0.3361*** -0.1679* -0.3613***

(0.065) (0.084) (0.094) (0.093)

Other controls Yes Yes Yes Yes

Observations 258,430 186,261 178,684 71,575

R-squared 0.7816 0.7367 0.7717 0.8760

Adjusted R-squared 0.762 0.722 0.758 0.844

Bond size cat FE Yes Yes Yes Yes

Issue size cat FE Yes Yes Yes Yes

Currency FE Yes Yes Yes Yes

Maturity×Rating×Time FE Yes Yes Yes Yes

Issuer FE Yes Yes Yes Yes

Results – return issuers

• Experienced green = variable equal to 1 if the issuer is not issuing a green bond for the first time

• Result: Having already issued a green bond matters --> reputational effect

(1) (2) (3) (4)

All Financial and

Supranational

Financial Non-financial

Green -0.2347*** -0.2690** -0.2154** -0.2027**

(0.071) (0.106) (0.100) (0.084)

Experienced green -0.5530*** -0.6081*** -0.0407 -0.3702***

(0.055) (0.066) (0.090) (0.094)

Other controls Yes Yes Yes Yes

Observations 258,430 186,261 178,684 71,575

R-squared 0.7816 0.7367 0.7717 0.8760

Adjusted R-squared 0.762 0.722 0.758 0.844

Bond size cat FE Yes Yes Yes Yes

Issue size cat FE Yes Yes Yes Yes

Currency FE Yes Yes Yes Yes

Maturity×Rating×Time FE Yes Yes Yes Yes

Issuer FE Yes Yes Yes Yes

Further analysis: green bonds in the financial sector

• Why do financial institutions issue green bonds?

• Green-washing, or

• Enviromentally-friendly policy

• Environmetally-friendly= dummy variable equal to 1 if the issuer is a member of the United Nations Environment Programme Finance Initiative

• Result: Environmentally-friendly institutions issue green bonds at a lower yield

• The issue requires further investigation, i.e. analysis of lending activities after having issued a green bond

(1)

Financial

Green 0.0834

(0.081)

Environmentally friendly -0.0396

(0.051)

Green × Environmentally friendly -0.8071***

(0.152)

Conclusion

• We study the pricing of corporate green bonds at issuance.

• Consistent with a non-pecuniary motive for holding green assets, we find that the green label is associated with a negative yield gap with respect to ordinary bonds. The premium is heterogeneous across types of non-governmental issuers.

• Moreover, certified corporate green bonds sell for a larger premium compared to green securities that lack external certification signaling.

• Finally, returning issuers benefit from an additional yield gap positive reputational effects.

Thank you!

Appendix I- Summary stats

N Mean Median St. Dev. P. 1 P. 99

Yield 268083 3.7663 3.3600 2.5072 0.0600 12.0400

Green 268083 0.0042 0.0000 0.0648 0.0000 0.0000

Certified green 268083 0.0018 0.0000 0.0424 0.0000 0.0000

Callable 268083 0.3723 0.0000 0.4834 0.0000 1.0000

Puttable 268083 0.0685 0.0000 0.2527 0.0000 1.0000

Collateralized 268083 0.1643 0.0000 0.3706 0.0000 1.0000

Amount (Ml€) 268083 167.2526 45.2463 353.7232 0.7006 1633.8801

Years to Maturity 266730 7.3255 5.0000 7.0855 0.5000 33.0000

Rating 268083 5.8554 5.0000 4.2216 1.0000 11.0000